UK Discretionary Trusts – A Guide For Estate Planning

Estate planning is an essential step in securing your family’s future and ensuring your assets are distributed according to your wishes. For those seeking flexibility in how their estate is managed and distributed, a discretionary trust is often an appealing option.

At Blackstone Solicitors, we specialise in helping clients across England and Wales navigate the complexities of trust law and estate planning. This guide explains what a discretionary trust is, how it works, and why it might be a suitable choice for your estate planning needs.

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For a free initial discussion with a member of our New Enquiries Team, get in touch with us today. We are experienced in dealing with all the legal aspects of Trusts and once instructed, we will review your situation and discuss the options open to you in a clear and approachable manner. Early expert legal assistance can help ensure you are on the best possible footing from the start and also avoid the stress of dealing with these issues on your own. Simply call us on 0345 901 0445 or click here to make a free enquiry and a member of the team will get back to you.

What Is a Discretionary Trust?

A discretionary trust is a legal arrangement in which the trustees hold and manage assets on behalf of beneficiaries. Unlike other types of trusts, the beneficiaries of a discretionary trust do not have an automatic entitlement to income or capital. Instead, the trustees have the discretion to decide how and when to distribute the trust’s income or assets to the beneficiaries.

For example:

• You create a discretionary trust and transfer assets into it.
• The trustees are tasked with managing these assets and determining how to distribute benefits to your chosen beneficiaries, based on guidelines you provide.

This flexibility makes discretionary trusts a powerful tool in estate planning, especially for families with complex needs or when protecting assets for future generations.

Key Features of Discretionary Trusts

1. Flexibility for Trustees

Trustees have wide-ranging powers to decide:

• Which beneficiaries to provide for.
• How much income or capital to distribute.
• When distributions should occur.

This allows the trust to adapt to changing circumstances, such as a beneficiary’s financial situation or needs.

2. Protection of Assets

Assets held within the trust are not owned outright by the beneficiaries, providing a layer of protection from:

• Creditors or bankruptcy claims against beneficiaries.
• Divorce settlements.
• Poor financial management by beneficiaries.

3. Tax Implications

Discretionary trusts have specific tax rules, which can make them less tax-efficient than some other arrangements. Trustees must be aware of inheritance tax (IHT), income tax, and capital gains tax (CGT) obligations.

Why Use a Discretionary Trust in Estate Planning?

A discretionary trust can serve many purposes, depending on your family’s needs and your long-term goals. Here are some common reasons to consider one:

1. Flexibility for Complex Family Situations

If you have multiple beneficiaries with differing needs, a discretionary trust allows the trustees to allocate benefits in a way that reflects these differences. For instance:

• Supporting a beneficiary with special needs without affecting their entitlement to state benefits.
• Providing funds to younger beneficiaries at a time that aligns with their maturity or financial responsibility.

2. Protecting Vulnerable Beneficiaries

A discretionary trust can protect beneficiaries who may struggle to manage a large inheritance, such as:

• Children or young adults.
• Individuals with a history of poor financial decisions.
• Beneficiaries with addictions or other challenges.

Trustees can oversee distributions to ensure funds are used appropriately.

3. Safeguarding Wealth for Future Generations

By retaining control over how and when funds are distributed, a discretionary trust helps preserve assets for future generations. For example, you can ensure that your grandchildren benefit from your estate rather than it being exhausted by the current generation.

4. Mitigating Inheritance Tax

While discretionary trusts are not exempt from inheritance tax, they can still be used as part of a strategy to manage IHT liabilities. For instance, a trust can help you pass on assets without exceeding the nil-rate band, thereby reducing the overall tax burden on your estate.

Setting Up a Discretionary Trust

Establishing a discretionary trust involves several key steps:

1. Create a Trust Deed

The trust deed is the legal document that sets out the terms of the trust, including:

• The assets to be placed in the trust.
• The beneficiaries.
• The powers and responsibilities of the trustees.
• Any guidelines or preferences for how the trust should be managed.

At Blackstone Solicitors, we can draft a trust deed tailored to your unique requirements.

2. Appoint Trustees

Trustees play a vital role in managing the trust and making decisions about distributions. It’s crucial to choose individuals who are:

• Trustworthy and impartial.
• Financially literate and capable of fulfilling their duties.
• Willing to act in the best interests of all beneficiaries.

In some cases, appointing a professional trustee, such as a solicitor, may be beneficial.

3. Transfer Assets into the Trust

Assets such as cash, property, investments, or other valuables can be placed into the trust. Once transferred, these assets no longer belong to you, which is an important consideration for inheritance tax and other legal implications.

4. Register the Trust

In the UK, most trusts must be registered with HMRC through the Trust Registration Service. This ensures compliance with tax and transparency requirements.

Tax Considerations for Discretionary Trusts

Discretionary trusts are subject to specific tax rules that can be complex. It’s important to understand these implications to ensure compliance and avoid unexpected liabilities.

1. Inheritance Tax

Discretionary trusts may face a 20% “entry charge” if the value of assets placed into the trust exceeds the current nil-rate band (£325,000 at the time of writing). Additionally, there may be periodic charges (every ten years) and exit charges when assets are distributed.

2. Income Tax

Trustees pay income tax on trust income at higher rates:

• 45% on interest income.
• 39.35% on dividends.

However, if income is distributed to beneficiaries, they may be entitled to claim a tax refund depending on their personal tax circumstances.

3. Capital Gains Tax

Trustees are liable for CGT on any gains made by the trust, with an annual exemption that is typically lower than that for individuals.

Seeking professional advice ensures that these tax rules are managed effectively and that the trust remains compliant.

Responsibilities of Trustees

Being a trustee is a significant responsibility. Trustees must:

• Act in the best interests of all beneficiaries.
• Manage the trust’s assets prudently and in accordance with the trust deed.
• Keep detailed records and provide accounts to beneficiaries when required.
• Comply with tax reporting obligations.

If you are considering appointing trustees, we recommend discussing their duties thoroughly to ensure they understand the role.

Alternatives to Discretionary Trusts

While discretionary trusts offer flexibility and protection, other estate planning tools may be better suited to your needs, such as:

1. Interest in Possession Trusts

These trusts provide a specific beneficiary with the right to receive income from the trust, while preserving the capital for others.

2. Bare Trusts

In a bare trust, beneficiaries are immediately entitled to the trust’s assets, making it simpler and more tax-efficient, but less protective.

3. Lifetime Gifts

For smaller estates, making gifts during your lifetime can reduce inheritance tax exposure and simplify the estate planning process.

Conclusion

A discretionary trust is a versatile and powerful tool for managing your estate and ensuring your wishes are respected. Its flexibility makes it ideal for families with complex needs or for those who want to protect their wealth for future generations. However, the tax rules and administrative responsibilities can be challenging, making professional advice essential.

At Blackstone Solicitors, we are here to guide you through the process, from setting up the trust to ongoing compliance and management. Whether you’re exploring your options or ready to establish a discretionary trust, contact us today for expert advice and personalised solutions. Let us help you take the next step towards securing your family’s future.

How we can help

We have a proven track-record of advising upon all aspects of private client work. We will guide you through the process and ensure all checks are carried out swiftly and efficiently and we firmly believe that with the right solicitors by your side, the entire process will seem more manageable and far less daunting.to incorporate, what kind of ownership

How to Contact Our Private Client Solicitors

It is important for you to be well informed about the issues and possible implications of dealing with trusts. However, expert legal support is crucial in terms of ensuring a positive outcome to your case.

To speak to our Trust solicitors today, simply call us on 0345 901 0445, or click here to make a free enquiry. We are well known across the country and can assist wherever you are based. We also have offices based in Cheshire and London.

Authored by Ben Posted in Blog, News Tagged as

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